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Tag Archives: IRS Information Letter 2012-0063

June 9, 2016

Update to ASC 718: Tax Withholding

I’ve been getting a lot of questions about what tax withholding rate can be used for federal income tax purposes, now that the FASB’s update to ASC 718 is final and companies are free to adopt it.  So I thought I’d take a blog entry to clarify what’s changed and what hasn’t.

Who’s the Decider on Tax Withholding Procedures

One thing that a lot of folks seem to have forgotten is that the FASB doesn’t determine tax withholding procedures; they just determine how you account for situations in which tax is withheld.  The ultimate authority on how much tax you should (and can) withhold in the United States is the IRS, not the FASB.

Tax Withholding for Supplemental Payments

I’ve blogged about the rules for withholding on supplemental payments, which include stock plan transactions, quite a bit (search on the term “Excess Withholding” in the NASPP Blog). There are two choices when it comes to withholding taxes on stock plan transactions for employees who have received less than $1 million in supplemental payments for the year:

  1. Withhold at the flat rate (currently 25%). No other rate is permissible.
  2. Withhold at the employee’s W-4 rate. Here again, no other rate is permissible.

If employees want you to withhold additional FIT, they have to submit a new W-4 requesting the withholding (as a flat dollar amount, not a percentage) and you have to agree to withhold at the W-4 rate. This is stated in IRS Publication 15 and even more emphatically in IRS Information Letter 2012-0063. Whether you are using method 1 or 2, you can’t arbitrarily select a withholding rate.

Where Does the FASB Come Into This?

The FASB has no authority over these requirements and they didn’t amend ASC 718 to make is easier for you to ignore the IRS requirements. They amended ASC 718 to make it easier for companies that grant awards to non-US employees to allow those employees to use share withholding. Other countries don’t have a flat rate, making it challenging for the US stock plan administration group to figure out the correct withholding rate for non-US employees. This would allow companies to withhold at the maximum rate in other countries and refund the excess to employees through local payroll (who is more easily able to figure out the correct withholding rate).

The only change for US tax withholding procedures is that if you want to use the W-4 rate to withhold excess FIT, withholding shares for the excess payment will no longer trigger liability treatment once you adopt the update to ASC 718. But if you want to withhold excess FIT, you still have to follow the IRS procedures to do so. Previously, even if you had followed the IRS W-4 procedures, withholding shares for an excess tax payment would have triggered liability treatment.

Why Not Use the W-4 Rate?

No one wants to use the W-4 rate because it is impossible to figure out.  You have to aggregate the income from the stock plan transaction with the employee’s other income for the payroll period, which the stock plan administration group doesn’t have any visibility to.  The rate varies depending on the number of exemptions the employee claims on Form W-4.  And the rate is complicated to figure out. I count at least seven official methods of figuring out this rate and companies can make up their own method (but if they make up a method, they have to apply it consistently, the stock plan administration group can’t make up a method that is different than the method the payroll group uses).

The upshot is that you literally can’t figure it out. You would have to run the income through your payroll system to figure out what the tax withholding should be.  And that’s a problem because your stock plan administration system is designed to figure out the withholding and tell payroll what it is, not the other way around.

What’s the Penalty?

Members often ask me what the penalty is for withholding extra FIT without following the IRS procedures.  Generally there isn’t a penalty to the company for overwithholding, provided there’s no intent to defraud the IRS (if you don’t understand how overwithholding could involve tax fraud, see “Excess Withholding, Part 2“) and the withholding is at the request of the employee. Doing this on a one-off basis, at the occasional request of an employee, probably won’t result in substantial penalties to the company, especially if the employee has appropriately completed Form W-4 for his/her tax situation. (Note, however, that I’m not a tax advisor. You should consult your own advisors to assess the risk of penalty to your company.)

But I’ve encountered a number of companies that want to create a system to automate electing a higher withholding rate without following the W-4 procedures (in some cases, for all of their award holders).  I think that it could be problematic to create an automated system that circumvents the W-4 process, especially in light of Information Letter 2012-0063. That system is likely to be noticed if the company is audited, and I think it could have negative ramifications.

– Barbara

 

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January 8, 2013

Supplemental Withholding

This week, I have a couple of updates on the tax rates and procedures for withholding federal income taxes on supplemental payments.

2013 Supplemental Withholding Rates
When Jenn blogged about the American Taxpayer Relief Act last week, the ink was still wet on President Obama’s signature on the Act and we were all still trying to figure out exactly what it meant in terms of tax withholding in 2013.  It now seems clear that the flat rate that applies to supplemental payments of $1 million or less per year will remain at 25% and the flat rate that applies to supplemental payments of more than $1 million has increased to 39.6%.

ADP has confirmed these rates and, while that isn’t quite the same thing as the IRS confirming them, my sense is that ADP knows what they are talking about, their confirmation agrees with my understanding of how these rates work, and it agrees with what I’ve heard from other practitioners (e.g., Baker & McKenzie), so I’m considering this issue put to rest.

No Other Rate is Allowed
While we’re on the topic of supplemental rates, a question I get frequently is whether companies can permit employees to request that taxes on their stock plan transactions be withheld at a higher rate than the prescribed flat rate.  This was a topic of two of my earliest blog entries (“Excess Tax Withholding,” December 1, 2008 and “Excess Tax Withholding – Part 2,” December 9, 2008).

In September of last year, the IRS issued Information Letter 2012-0063 confirming that when you are using the flat rate (regardless of whether you are choosing to use the flat rate over the employee’s W-4 rate on an optional basis or the employee has received over $1 million in supplemental payments for the year and you are required to withhold at the maximum rate), you are required to withhold at the specified rate (25% for optional flat rate withholding, 39.6% for mandatory flat rate withholding).  From the IRS’s discussion of optional flat rate withholding:

“If the employer is using the optional flat rate withholding method, the employer must withhold at the optional flat rate and cannot take into account requests by the employee that the rate be increased or lowered. Only one rate applies for purposes of optional flat rate withholding on supplemental wages.”

Where employees have received more than $1 million in supplemental payments, you have to withhold federal income tax at 39.6% on their stock plan transactions–no other rate (either higher or lower) is permissible.

Where employees have recieved $1 million or less in supplemental payments, the only way to withhold federal income tax at a rate of other than 25% is to use the employee’s W-4 rate (which the IRS refers to as the “aggregate procedure”).  In that case, you could have the employee complete a new W-4 requesting the higher rate for federal income tax purposes just prior to his/her stock plan transaction and then complete another W-4 resetting the FIT rate back to the prior rate after the stock plan transaction is concluded (without the second W-4, the higher rate will apply to all of the employee’s regular pay).  But then you’d have to figure out the W-4 rate–good luck with that.

Where you don’t want to deal with the hassle of figuring out W-4 rates, you can offer employees two other alternatives when they are worried that the withholding on their stock plan transactions isn’t sufficient:

  1. Increase the withholding on their regular pay (which does require a new W-4, but at least you don’t have to be involved).
  2. Make estimated payments to the IRS.

The information letter doesn’t provide any information on what the penalties would be if you do withhold at a different rate without following the W-4 procedure or whether those penalties would apply to the company or the employee. For now, those mysteries remain unsolved.

– Barbara

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